Ministers were facing demands last night to pay up to £10bn in compensation to workers who have lost their pensions, following a damning verdict from the parliamentary ombudsman.

Ann Abraham is recommending the payout after ruling that government departments misled employees over the security of occupational pension schemes.

In a long-awaited report, she found the government guilty of maladministration that "caused injustice to a large number of people", and called for victims to be fully compensated for lost pensions, and awarded damages for the stress and suffering they endured.

Official information published by the Department for Work and Pensions and other departments was "inaccurate, incomplete, unclear and inconsistent", and her investigation uncovered evidence of "real suffering, distress and uncertainty".

But ministers refused to accept her findings and said they would not use taxpayers' cash to compensate workers. The Liberal Democrats said that response "beggars belief".

Ms Abraham has been investigating the plight of 85,000 workers who lost some or all of their pensions after their companies went bust. They saw their pension entitlement snatched away because of rules that were brought in by the government to protect company schemes after the Robert Maxwell scandal, in which the former proprietor of the Mirror group plundered pension funds.

Her report reveals that two people have committed suicide after learning they would not receive their full pensions.

In 2004, ministers set up a £400m "lifeboat" fund to help these workers but it has been criticised as inadequate, and so far just 27 pensioners have received limited payouts.

MPs referred more than 200 complaints to Ms Abraham, who has backed the workers' claims that government departments wrongly advised them that their company pensions were safe and protected by law. She pointed to leaflets issued by the DWP including one in January 1996 saying the Pensions Act was created because "the government wanted to remove any worries people had about the safety of their occupational scheme following the Maxwell affair".

These rules gave priority to retired workers receiving pensions when a company went bust. Their pensions had to be paid in full, and all current workers - even those about to retire - had to make do with what was left. As a result, many were told they would get only a fraction of what they were expecting, and some found they would get nothing.

Workers at companies such as the defunct steel company ASW have organised marches and staged protests while naked, and their efforts prompted the establishment of the £400m fund.

But Ms Abraham said this fund had flaws in the maximum amounts it would pay out and the ages at which people became eligible.

She urged the government to consider:

· full restoration of all lost pensions plus any other benefits such as life cover, "by whichever means is most appropriate, including if necessary by payment from public funds";

· making "consolatory payments" in recognition of the "outrage, distress, inconvenience and uncertainty" workers have endured;

· apologising to scheme trustees for the distress they have suffered;

· considering whether to compensate those who are not fully covered by her recommendations;

· reviewing what can be done to reduce the time taken to wind up final-salary schemes.

Ros Altmann, a pensions adviser who has been representing the complainants, said the total cost of implementing the recommendations was between £5bn and £10bn but it could be paid over 40 years.

The report says ministers have not accepted Ms Abraham's findings and told her they were likely to comply only with the last and least controversial of her recommendations. "Therefore, there is no basis on which I can be satisfied that the injustice I have identified will be remedied," she said.

The pensions minister, Stephen Timms, said he sympathised with the workers who lost their pensions. "But nobody ever said occupational schemes were guaranteed by the taxpayer." He said the ombudsman made "an implausible leap" when she suggested literature written by his department backing occupational schemes led to government liability.

"Responsibility must fall on those companies whose schemes were or are being wound up, and to the trustees who, with the benefit of professional advice, were responsible for protecting members' interests," he said.

Opposition MPs said the government misled parliament. The Tory spokesman Philip Hammond said a statement by Alistair Darling, when work and pensions secretary, illustrated how ministers were trying to dodge commitments made by their predecessors.

Mr Darling said in 2000: "The giving of wrong information by a department is inexcusable. There is a clear responsibility to ensure that the information that departments provide is accurate and complete. In this case, it was not. As a matter of principle, we believe that when someone loses out because they were given the wrong information by a department, they are entitled to redress."

Mr Hammond said the ombudsman's report showed a "culture of complacency was allowed to develop and continues to this day".